The example used in this video, using real data from April 2013, may be different from what you are

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Victor Glenn
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1 Iron Condor Sensitivity Calculator The example used in this video, using real data from April 2013, may be different from what you are assigned to use. Your model is loaded with the necessary defaults and the examples here should suffice For the homework are allowed to seek help from other classmates in completing this assignment and can also ask for help from me, although my accessibility is hit or miss in the final week of school. This homework requires that you have completed the earlier homework where you were to have designed an options pricing model using historical daily volatility. The Iron Condor at the San Diego Safari Park earlier this year... This homework uses an Excel workbook entitled Iron Condor Spreads, probably available as ICS.zip.

also ask for help from me, although my accessibility is hit or miss in the final week of school.

2 Your project: Designing an Iron Condor sensitivity tester When you do a strangle, you go long with an OTM put and call near the strike price, and are betting mostly on a volatility increase and fighting time decay. Your maximum loss is limited to the size of your bet. With an iron condor, your primary bet is the opposite of a strangle. You write (h (short) an OTM call and put near the strike price. This is a bet on falling volatility where time decay works in your favor (hence the popularity of condors). However your potential loss is much, greater than the size of your investment. For that reason you must hedge your condor by buying a call and a put that is considerably more out of the money, which caps your loss but substantially cuts into your cash gain. Our Iron Condor of April 26, 2013: Stock: AAPL LONG Stock Price: CALL CALL PUT ONG U LONG PUT STRIKE PRICE

You write (h (short) an OTM call and put near the strike price. This is a bet on falling volatility where time decay works in your favor (hence the popularity of condors).

3 The Iron Condor Expiration Payoff Mapping 2.00 The primary bet was writing a strangle consisting of a 132 call 1.50 for $1.25 and a 128 put for $1.64 when DIA was 1.00 at $ This is a cash-positive bet on low (and lower) volatility. You are net cash positive and want to stay that way Lower floor provided by 124 Long Put, which cost $0.80. Upper floor provided by 135 Long Call, which cost $0.35. Possible Prices of DIA on May 19,

You are net cash positive and want to stay that way. 0.00-0.50-1.00 Lower floor provided -1.50 150 by 124 Long Put, -2.00 which cost $0.

4 Page 1 spread IRON CONDOR NET SPREAD CALCULATOR Analyst: Date: 4/26/2013 Stock: AAPL Stock Price: Interest rate: 0.01 Expiration: 13-May-13 DTM: 17 DTM Override: 17 This is a version of my Iron Condor Sensitivity Calculator which you will not use in this homework except for reference. This version uses the iterative 6:41 AM technique discussed in class to calculate the Implied Daily Volatility of these four options given the actual prices of the stock and the four PUT LONG PUT options and the strike prices at a moment on April 26, Because we are selling a strangle NET near the money and buying a more distant strangle for a hedge, this 4- way transaction is net cash positive ($8.84 per share). LONG CALL CALL STRIKE PRICE IDV SPREAD 4.61 SENSITIVITY Volatility Range: Days time decay: 1 Stock price: New Price The Sensitivity i i section allows you 4.11 New Spread 4.52 to override volatility or stock price New Value 8.63 Gain/Loss 0.21 and calculate time decay in any Primary bet Hedge desired combination. In the example shown, I have calculated the effect of one day of time decay, with no change in volatility of stock price.

This version uses the iterative 6:41 AM technique discussed in class to calculate the Implied Daily Volatility of these four options given the actual prices of the stock and the four PUT LONG PUT

5 Page 2 spread This is the (less useful) version of the IRON CONDOR NET SPREAD CALCULATOR iron condor net spread calculator that Analyst: you are being asked to complete for the Date: 26-Apr-13 homework. Stock: AAPL Historical IDV: Instead of using existing options Stock Price: Interest rate: 0.01 Expiration: 13-May-13 DTM: 17 prices to calculate IDV, in this easier DTM Override: 17 example you are asked to provide the LONG historical IDV to calculate ideally what CALL CALL PUT LONG PUT the prices of these four options should STRIKE PRICE be, using the daily volatility version of SPREAD NET our options pricing calculator. This is not as hard as it seems. Once SENSITIVITY Volatility Range: Days time decay: 3 you have the formula determined (well, Stock price: one for a put, one for a call), then you New Price apply it over and over in basically a cut New Spread and paste operation. New Net Gain/Loss Once you have this master set up, then you should be able to quickly evaluate the sensitivity of any iron condor that you care to evaluate. You can check your calculations by comparing them to the first sheet using the IDV shown there. For example when you plug in for the short call (instead of 0.015), for example, it should yield an option price of $5.60.

01 Expiration: 13-May-13 DTM: 17 prices to calculate IDV, in this easier DTM Override: 17 example you are asked to provide the LONG historical IDV to calculate ideally what CALL CALL PUT LONG PUT the

6 The HW objective and its relationship to the take-home final Using the student assignment version of the spread (the Page 2 spread in this slide show - the version where you use historical daily volatility rather than calculate implied daily volatility from actual prices) take the following steps: 1. Using the Historical IDV and the other defaults, calculate the price of each of the four options, the cash spread on each side, and the cash net for the option writer. Hint: Look at the other version (Page 1 spread) that used real data to figure out how to calculate spread and net, then use one of two of those IDVs to check your math to make sure your calculator is working. Then design the sensitivity section to evaluate the sensitivity of specifically two variables: 2. An increase in volatility of (which will cause a loss) in isolation. 3. Three days of time decay in isolation. 4. A change in the stock price to the amount shown in the sensitivity section in combination with the other two. You may be asked to use this model for similar calculations on an exam.

Using the Historical IDV and the other defaults, calculate the price of each of the four options, the cash spread on each side, and the cash net for the option writer.

FINANCIAL ENGINEERING CLUB TRADING 201

FINANCIAL ENGINEERING CLUB TRADING 201 STOCK PRICING It s all about volatility Volatility is the measure of how much a stock moves The implied volatility (IV) of a stock represents a 1 standard deviation